UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-Q
x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2007
OR
o
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
Commission File Number 1-9317
HRPT PROPERTIES TRUST
(Exact Name of Registrant as Specified in Its Charter)
Maryland
04-6558834
(State or other Jurisdiction of Incorporation orOrganization)
(IRS Employer Identification No.)
400 Centre Street, Newton, Massachusetts 02458
(Address of Principal Executive Offices) (Zip Code)
617-332-3990
(Registrant’s Telephone Number, Including Area Code)
Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer x Accelerated filer o Non-accelerated filer o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No x
Number of registrant’s common shares of beneficial interest, $0.01 par value per share, outstanding as of November 7, 2007: 225,430,637
SEPTEMBER 30, 2007
INDEX
PART I
Item 1.
Financial Statements (unaudited)
Consolidated Balance Sheet – September 30, 2007 and December 31, 2006
Consolidated Statement of Income – Three and Nine Months Ended September 30, 2007 and 2006
Consolidated Statement of Cash Flows – Nine Months Ended September 30, 2007 and 2006
Notes to Consolidated Financial Statements
Item 2.
Management’s Discussion and Analysis of Financial Condition and Results of Operations
Item 3.
Quantitative and Qualitative Disclosures About Market Risk
Item 4.
Controls and Procedures
Warning Concerning Forward Looking Statements
Statement Concerning Limited Liability
PART II
Other Information
Unregistered Sales of Equity Securities and Use of Proceeds
Item 6.
Exhibits
Signatures
References in this Form 10-Q to “we”, “us” and “our” refers to HRPT Properties Trust and its consolidated subsidiaries, unless otherwise noted.
PART I Financial Information
Item 1. Financial Statements
CONSOLIDATED BALANCE SHEET
(amounts in thousands, except share data)
September 30,
December 31,
2007
2006
(unaudited)
ASSETS
Real estate properties:
Land
$
1,175,940
1,143,109
Buildings and improvements
4,873,816
4,619,164
6,049,756
5,762,273
Accumulated depreciation
(770,839
)
(668,460
5,278,917
5,093,813
Acquired real estate leases
156,743
167,879
Cash and cash equivalents
25,639
17,783
Restricted cash
17,410
21,635
Rents receivable, net of allowance for doubtful accounts of $5,810 and $4,737, respectively
191,591
172,566
Other assets, net
130,212
102,273
Total assets
5,800,512
5,575,949
LIABILITIES AND SHAREHOLDERS’ EQUITY
Revolving credit facility
38,000
40,000
Senior unsecured debt, net
2,239,424
1,941,173
Mortgage notes payable, net
397,435
416,058
Accounts payable and accrued expenses
88,122
93,734
Dividends payable
—
44,111
Acquired real estate lease obligations
39,612
41,833
Rent collected in advance
20,124
19,592
Security deposits
16,031
15,972
Due to affiliates
23,228
12,708
Total liabilities
2,861,976
2,625,181
Shareholders’ equity:
Preferred shares of beneficial interest, $0.01 par value: 50,000,000 shares authorized;
Series B preferred shares; 8 ¾% cumulative redeemable at par on or after September 12, 2007; 12,000,000 shares issued and outstanding, aggregate liquidation preference $300,000
289,849
Series C preferred shares; 7 1/8% cumulative redeemable at par on or after February 15, 2011; 6,000,000 shares issued and outstanding, aggregate liquidation preference $150,000
145,015
Series D preferred shares; 6 1/2% cumulative convertible; 15,180,000 shares issued and outstanding, aggregate liquidation preference $379,500
368,270
Common shares of beneficial interest, $0.01 par value: 300,000,000 shares authorized; 212,457,190 and 210,051,590 shares issued and outstanding, respectively
2,125
2,101
Additional paid in capital
2,802,869
2,774,461
Cumulative net income
1,800,130
1,703,354
Cumulative common distributions
(2,204,198
(2,115,299
Cumulative preferred distributions
(265,524
(216,983
Total shareholders’ equity
2,938,536
2,950,768
Total liabilities and shareholders’ equity
See accompanying notes
1
CONSOLIDATED STATEMENT OF INCOME
(amounts in thousands, except per share data)
Three Months EndedSeptember 30,
Nine Months EndedSeptember 30,
Rental income
211,217
202,542
626,262
590,058
Expenses:
Operating expenses
82,768
80,219
243,935
227,981
Depreciation and amortization
46,116
41,064
135,413
119,109
General and administrative
8,947
8,513
26,650
24,926
Total expenses
137,831
129,796
405,998
372,016
Operating income
73,386
72,746
220,264
218,042
Interest income
415
573
1,442
2,118
Interest expense (including amortization of debt discounts, premiums and deferred financing fees of $1,085, $1,105, $3,207 and $3,348, respectively)
(44,055
(43,169
(126,627
(126,317
Loss on early extinguishment of debt
(711
(1,659
Equity in earnings of equity investments
3,136
Gain on sale of equity investments
116,287
Income from continuing operations
29,746
30,150
94,368
211,607
Income (loss) from discontinued operations
32
(76
Gain on sale of properties
2,408
1,172
Net income
32,154
31,354
96,776
212,703
Preferred distributions
(15,402
(9,234
(46,204
(29,976
Excess redemption price paid over carrying value of preferred shares
(6,914
Net income available for common shareholders
16,752
22,120
50,572
175,813
Weighted average common shares outstanding – basic
212,078
209,992
211,475
209,941
Weighted average common shares outstanding – diluted
241,271
240,668
Earnings per common share:
Income from continuing operations available for common shareholders – basic and diluted
0.07
0.10
0.23
0.83
Income (loss) from discontinued operations – basic and diluted
0.01
Net income available for common shareholders – basic and diluted
0.08
0.11
0.24
0.84
2
CONSOLIDATED STATEMENT OF CASH FLOWS
(amounts in thousands)
Nine Months Ended September 30,
Cash flows from operating activities:
Adjustments to reconcile net income to cash provided by operating activities:
Depreciation
108,877
96,452
Amortization of debt discounts, premiums and deferred financing fees
3,207
3,348
Amortization of acquired real estate leases
23,574
22,495
Other amortization
10,612
8,191
711
1,659
(3,136
(116,287
(2,408
(1,172
Distributions of earnings from equity investments
Change in assets and liabilities:
Decrease (increase) in restricted cash
4,225
(4,427
Increase in rents receivable and other assets
(51,591
(45,741
Decrease in accounts payable and accrued expenses
(7,028
(4,329
Increase in rent collected in advance
532
2,353
Increase in security deposits
59
1,475
Increase in due to affiliates
10,520
8,767
Cash provided by operating activities
198,066
185,487
Cash flows from investing activities:
Real estate acquisitions and improvements
(309,196
(364,978
Distributions in excess of earnings from equity investments
2,251
Proceeds from sale of properties
3,748
6,231
Proceeds from sale of equity investments
308,333
Cash used for investing activities
(305,448
(48,163
Cash flows from financing activities:
Proceeds from issuance of preferred shares, net
Redemption of preferred shares
(200,000
Proceeds from issuance of common shares, net
28,151
Proceeds from borrowings
1,065,340
1,044,000
Payments on borrowings
(792,986
(945,950
Deferred financing fees
(3,716
(3,027
Distributions to common shareholders
(133,010
(132,263
Distributions to preferred shareholders
(48,541
(31,086
Cash provided by (used for) financing activities
115,238
(123,311
Increase in cash and cash equivalents
7,856
14,013
Cash and cash equivalents at beginning of period
19,445
Cash and cash equivalents at end of period
33,458
3
Supplemental cash flow information:
Interest paid (including capitalized interest paid of $489 in 2007)
128,492
131,809
Non-cash investing activities:
Real estate acquisitions
(4,545
(20,585
Non-cash financing activities:
Issuance of common shares
280
2,026
Assumption of mortgage notes payable
4,545
20,585
4
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 1. Basis of Presentation
The accompanying consolidated financial statements of HRPT Properties Trust and its subsidiaries have been prepared without audit. Certain information and footnote disclosures required by accounting principles generally accepted in the United States for complete financial statements have been condensed or omitted. We believe the disclosures made are adequate to make the information presented not misleading. However, the accompanying financial statements should be read in conjunction with the financial statements and notes contained in our Annual Report on Form 10-K for the year ended December 31, 2006. In the opinion of management, all adjustments, which include only normal recurring adjustments considered necessary for a fair presentation, have been included. All intercompany transactions and balances between HRPT Properties Trust and its subsidiaries have been eliminated. Operating results for interim periods are not necessarily indicative of the results that may be expected for the full year. Reclassifications have been made to the prior years’ financial statements to conform to the current year’s presentation.
In June 2006, the Financial Accounting Standards Board issued Interpretation No. 48 “Accounting for Uncertainty in Income Taxes”, or FIN 48. FIN 48 prescribes how we should recognize, measure and present in our financial statements uncertain tax positions that have been taken or are expected to be taken in a tax return. Pursuant to FIN 48, we can recognize a tax benefit only if it is “more likely than not” that a particular tax position will be sustained upon examination or audit. To the extent the “more likely than not” standard has been satisfied, the benefit associated with a tax position is measured as the largest amount that is greater than 50% likely of being realized upon settlement. We are subject to U.S federal income tax as well as income tax of multiple state and local jurisdictions but, as a REIT, we generally are not subject to income tax on our net income distributed as dividends to our shareholders. As required, we adopted FIN 48 effective January 1, 2007 and have concluded that the effect is not material to our consolidated financial statements. Accordingly, we did not record a cumulative effect adjustment related to the adoption of FIN 48. Tax returns filed for the 2003 through 2006 tax years are subject to examination by taxing authorities.
Note 2. Real Estate Properties
During the nine months ended September 30, 2007, we acquired 11 office properties, including one hotel which is adjacent to owned office properties that are scheduled for redevelopment, for $108,164, excluding closing costs, 14 industrial properties for $125,475, excluding closing costs, and we funded $74,777 of improvements to our owned properties using cash on hand, borrowings under our revolving credit facility and the assumption of $4,545 of mortgage debt. During the nine months ended September 30, 2007, we sold three land parcels for $3,925 and recognized gains of $2,408.
In June 2007, we repaid $200,000 of our unsecured floating rate senior notes by drawing on our revolving credit facility. We recognized a loss of $711 from the write off of deferred financing fees in connection with this repayment. We subsequently issued $250,000 of unsecured senior notes in a public offering in June, raising net proceeds of approximately $247,400. These notes bear interest at 6.25%, require semi-annual interest payments and mature in June 2017. In September 2007, we issued $250,000 of unsecured senior notes in a public offering, raising net proceeds of approximately $245,800. These notes bear interest at 6.65%, require semi-annual interest payments and mature in January 2018. Net proceeds from these offerings were used to reduce amounts outstanding under our revolving credit facility. In September 2007, we prepaid at par, $15,853 of 7.02% mortgage debt due in 2008, using cash on hand and borrowings under our revolving credit facility.
We have a $750,000 unsecured revolving credit facility that we use for acquisitions, working capital and general business purposes. The interest rate on this facility averaged 5.9% and 5.6% per annum, for the nine months ended September 30, 2007 and 2006, respectively. As of September 30, 2007, we had $38,000 outstanding and $712,000 available under our revolving credit facility. Our public debt indentures and credit facility agreement contain a number of financial and other covenants, including a credit facility covenant which limits the amount of aggregate distributions on common shares to 90% of operating cash flow available for shareholder distributions as defined in the credit facility agreement. We believe that we are in compliance with these financial and other covenants.
5
During the nine months ended September 30, 2007, we sold 2,338 of our common shares for net proceeds of $28,151 pursuant to a sales agreement with a securities broker dealer, which allows us to sell our common shares from time to time in a controlled equity offering program.
Earnings per common share, or EPS, is computed pursuant to the provisions of Statement of Financial Accounting Standards No. 128. The effect of our convertible preferred shares on income from continuing operations and net income available for common shareholders per share is anti-dilutive for the periods presented. The following table provides a reconciliation of both net income and the number of common shares used in the computations of basic and diluted EPS:
Three Months Ended September 30,
Income
Shares
Per Share
Amounts used to calculate basic EPS
6
As of September 30, 2007, we owned 367 office properties and 163 industrial properties. We account for our office and industrial properties in geographic operating segments for financial reporting purposes based on our method of internal reporting. We define these individual geographic segments as those which currently, or during either of the last two quarters, represent or generate 5% or more of our total square feet, revenues or property net operating income. Property level information by geographic segment and property type as of and for the three and nine months ended September 30, 2007 and 2006, is as follows:
As of September 30, 2007
As of September 30, 2006
OfficeProperties
IndustrialProperties
Totals
Property square feet:
Metro Philadelphia, PA
5,445
5,453
Oahu, HI
17,914
17,929
Metro Washington, DC
2,658
2,645
Metro Boston, MA
3,100
2,740
Southern California
1,444
Metro Austin, TX
1,491
1,236
2,727
1,492
1,316
2,808
Other Markets
21,230
9,410
30,640
20,326
4,725
25,051
35,368
28,560
63,928
34,100
23,970
58,070
Central business district, or CBD
11,325
158
11,483
11,335
11,493
Suburban
24,043
28,402
52,445
22,765
23,812
46,577
Total
Three Months EndedSeptember 30, 2007
Three Months EndedSeptember 30, 2006
Property rental income:
31,455
31,784
16,786
16,369
19,982
19,972
16,279
15,517
12,709
12,323
7,527
3,545
11,072
7,298
3,454
10,752
88,428
14,506
102,934
86,354
9,471
95,825
176,380
34,837
173,248
29,294
CBD
71,520
313
71,833
72,382
292
72,674
104,860
34,524
139,384
100,866
29,002
129,868
7
Property net operating income:
16,414
17,025
12,937
13,274
12,237
12,333
10,673
9,917
8,876
8,522
3,661
2,123
5,784
3,334
1,863
5,197
50,677
10,851
61,528
49,774
6,281
56,055
102,538
25,911
128,449
100,905
21,418
122,323
39,307
213
39,520
40,136
214
40,350
63,231
25,698
88,929
60,769
21,204
81,973
Nine Months EndedSeptember 30, 2007
Nine Months EndedSeptember 30, 2006
93,967
95,277
48,281
45,580
59,309
59,182
47,768
45,545
37,707
36,128
22,931
9,915
32,846
21,157
10,548
31,705
265,157
41,227
306,384
249,245
27,396
276,641
526,839
99,423
506,534
83,524
212,901
896
213,797
214,960
850
215,810
313,938
98,527
412,465
291,574
82,674
374,248
48,700
51,096
38,060
37,033
36,974
37,068
31,312
29,920
27,151
25,084
11,283
5,440
16,723
10,028
5,779
15,807
153,317
30,090
183,407
147,853
18,216
166,069
308,737
73,590
382,327
301,049
61,028
362,077
117,906
642
118,548
120,211
644
120,855
190,831
72,948
263,779
180,838
60,384
241,222
8
The table below reconciles our calculation of property net operating income, or NOI, to net income available for common shareholders, the most directly comparable financial measure under generally accepted accounting principles, or GAAP, reported in our consolidated financial statements for the three and nine months ended September 30, 2007 and 2006. We consider NOI to be appropriate supplemental information to net income available for common shareholders because it helps both investors and management to understand the operations of our properties. We use NOI internally as a performance measure and believe NOI provides useful information to investors regarding our results of operations because it reflects only those income and expense items that are incurred at the property level. Our management also uses NOI to evaluate individual, regional and company wide property level performance. NOI excludes certain components from net income available for common shareholders in order to provide results that are more closely related to our properties’ results of operations. NOI does not represent cash generated by operating activities in accordance with GAAP and should not be considered an alternative to net income, net income available for common shareholders or cash flow from operating activities as a measure of financial performance. A reconciliation of NOI to net income available for common shareholders for the three and nine months ended September 30, 2007 and 2006, is as follows:
(82,768
(80,219
(243,935
(227,981
Property net operating income (NOI)
Property net operating income
(46,116
(41,064
(135,413
(119,109
(8,947
(8,513
(26,650
(24,926
Interest expense
9
In October 2007, we declared a distribution of $0.21 per common share, or approximately $44,700, to be paid on or about November 21, 2007, to shareholders of record on October 23, 2007. We also announced a distribution on our series B preferred shares of $0.5469 per share, or $6,563, a distribution on our series C preferred shares of $0.4453 per share, or $2,672, and a distribution on our series D preferred shares of $0.4063, or $6,167, which will be paid on or about November 15, 2007, to our preferred shareholders of record as of November 1, 2007.
In October 2007, we issued 12,797 common shares in a public offering, raising net proceeds of approximately $123,000. We subsequently announced the partial redemption of 5,000 of our 12,000 outstanding 8 ¾% series B cumulative redeemable preferred shares at the stated liquidation preference price of $25.00 per share plus accrued and unpaid dividends. This redemption is expected to occur on or about November 26, 2007. Also in October 2007, we sold an additional 177 of our common shares for net proceeds of $1,736 pursuant to a sales agreement with a securities broker dealer, which allows us to sell our common shares from time to time in a controlled equity offering program. Net proceeds were used to reduce amounts outstanding on our revolving credit facility and for general business purposes, including property acquisitions.
In October 2007, we purchased six properties for $73,750, excluding closing costs, using cash on hand and borrowings under our revolving credit facility. As of November 7, 2007, we have an executed purchase agreement for two additional properties with an aggregate of approximately 262 square feet of space for a total purchase price of $23,150, excluding closing costs. This potential purchase transaction is subject to completion of diligence and other customary conditions; because of these contingencies we can provide no assurances that we will purchase these properties.
10
The following discussion and tables should be read in conjunction with our consolidated financial statements and notes thereto included in this quarterly report and our Annual Report on Form 10-K for the year ended December 31, 2006.
OVERVIEW
We primarily own office and industrial buildings located throughout the United States. We also own approximately 17 million square feet of leased industrial and commercial lands located in Oahu, Hawaii.
Property Operations
As of September 30, 2007, 92.8% of our total square feet was leased, compared to 93.4% leased as of September 30, 2006. These results primarily reflect the 1.1 percentage point decrease in occupancy at properties we owned continuously since January 1, 2006. Occupancy data for 2007 and 2006 is as follows (square feet in thousands):
All Properties (1)
Comparable Properties (2)
As of the Nine MonthsEnded September 30,
Total properties
530
487
437
Total square feet
54,832
Percent leased (3)
92.8%
93.4%
92.4%
93.5%
(1) Excludes properties sold or under contract for sale.
(2) Based on properties owned continuously since January 1, 2006, and excludes properties under contract for sale.
(3) Percent leased includes (i) space being fitted out for occupancy pursuant to signed leases and (ii) space which is leased, but is not occupied or is being offered for sublease by tenants.
During the three months ended September 30, 2007, we signed new leases for 248,000 square feet and lease renewals for 1,235,000 square feet, at weighted average rental rates that were 9% above rents previously charged for the same space. Average lease terms for leases signed during this period were 7.7 years. Commitments for tenant improvement and leasing costs for leases signed during this period totaled $17.6 million, or $11.88 per square foot (approximately $1.54/sq. ft. per year of the lease term).
During the past twelve months, the leasing market conditions in some of our markets have stabilized. The quoted rental rates in some of the areas where our properties are located seem to have increased modestly. Required landlord funded tenant build outs and leasing commissions payable to tenant brokers for new leases and lease renewals have also generally stabilized over the past twelve months. These build out costs and leasing commissions are generally amortized as a reduction of our income during the terms of the affected leases. However, these modest improvements in rent rates and reduced tenant inducement costs have been offset by a modest decline in space requirements from tenants and increased construction of office properties in certain markets, as reflected in the decline in occupancy we have experienced during this period. We believe that modest increases in effective rents may improve the financial results at some of our currently owned properties. However, there are too many variables for us to reasonably project what the financial impact of market conditions will be on our results for future periods.
11
Approximately 10.5% of our leased square feet and 12.0% of our rents are included in leases scheduled to expire through December 31, 2008. Lease renewals and rental rates at which available space may be relet in the future will depend on prevailing market conditions at that time. Lease expirations by year, as of September 30, 2007, are as follows (square feet and dollars in thousands):
Square Feet
% ofSquare Feet
AnnualizedRental Income
% ofAnnualizedRentalIncome
Cumulative% ofAnnualizedRentalIncome
Year
Expiring (1)
Expiring
Expiring (2)
1,662
2.8
%
25,201
2.9
2008
4,550
7.7
78,009
9.1
12.0
2009
3,728
6.3
66,747
7.8
19.8
2010
6,381
10.8
99,767
11.6
31.4
2011
5,411
95,947
11.2
42.6
2012
5,158
8.7
101,639
11.8
54.4
2013
3,074
5.2
52,329
6.1
60.5
2014
2,881
4.9
48,844
5.7
66.2
2015
3,355
5.6
59,633
6.9
73.1
2016
2,494
4.2
42,512
5.0
78.1
2017 and thereafter
20,616
34.7
188,005
21.9
100.0
59,310
858,633
Weighted average remaining lease term (in years):
8.9
6.5
(1)
Square feet is pursuant to signed leases as of September 30, 2007, and includes (i) space being fitted out for occupancy and (ii) space which is leased, but is not occupied or is being offered for sublease by tenants.
(2)
Rents are pursuant to signed leases as of September 30, 2007, plus expense reimbursements; includes some triple net lease rents and excludes lease value amortization.
12
Our principal source of funds for our operations is rents from tenants at our properties. Rents are generally received from our non-government tenants monthly in advance, and from our government tenants monthly in arrears. As of September 30, 2007, tenants responsible for 1% or more of our total rent were as follows (square feet in thousands):
Tenant
SquareFeet (1)
% of TotalSquare Feet (1)
% ofRent (2)
Expiration
1.
U. S. Government
4,826
8.1
12.6
2007 to 2020
2.
GlaxoSmithKline plc
608
1.0
1.7
3.
PNC Financial Services Group
460
0.8
1.4
2011, 2021
4.
Solectron Corporation
894
1.5
1.1
5.
JDA Software Group, Inc.
283
0.5
6.
The Scripps Research Institute
164
0.3
2019
7.
Ballard Spahr Andrews & Ingersoll, LLP
235
0.4
2008, 2015
7,470
20.0
Rent is pursuant to signed leases as of September 30, 2007, plus estimated expense reimbursements; includes some triple net lease rents and excludes lease value amortization.
Investment Activities
During the nine months ended September 30, 2007, we acquired 11 office properties, including one hotel which is adjacent to owned office properties that are scheduled for redevelopment, with 806,000 square feet for $108.2 million, and 14 industrial properties with 3,294,000 square feet for $125.5 million. At the time of acquisition, these properties were over 99% leased and projected to yield approximately 9.0% of the aggregate gross purchase price, based on estimated current annual net operating income, or NOI, which we define as GAAP based property rental income less property operating expenses.
Financing Activities
In June 2007, we repaid $200 million of our unsecured floating rate senior notes by drawing on our revolving credit facility. We recognized a loss of $711,000 from the write off of deferred financing fees in connection with this repayment. We subsequently issued $250 million of unsecured senior notes in a public offering in June, raising net proceeds of approximately $247.4 million. These notes bear interest at 6.25%, require semi-annual interest payments and mature in June 2017. In September 2007, we issued $250 million of unsecured senior notes in a public offering, raising net proceeds of approximately $245.8 million. These notes bear interest at 6.65%, require semi-annual interest payments and mature in January 2018. Net proceeds from these offerings were used to reduce amounts outstanding under our revolving credit facility. In September 2007, we prepaid at par, $15.9 million of 7.02% mortgage debt due in 2008, using cash on hand and borrowings under our revolving credit facility.
During the nine months ended September 30, 2007, we sold 2.3 million of our common shares for net proceeds of $28.2 million pursuant to a sales agreement with a securities broker dealer, which allows us to sell our common shares from time to time in a controlled equity offering program.
13
RESULTS OF OPERATIONS
Three Months Ended September 30, 2007, Compared to Three Months Ended September 30, 2006
$Change
%Change
(in thousands, except per share data)
8,675
4.3%
2,549
3.2%
5,052
12.3%
434
5.1%
8,035
6.2%
640
0.9%
(158
(27.6%
(886
(2.1%
(404
(1.3%
Income from discontinued operations
(32
(100.0%
105.5%
800
2.6%
(6,168
(66.8%
(5,368
(24.3%
2,086
1.0%
31,279
14.9%
(0.03
(30.0%
Income from discontinued operations – basic and diluted
(27.3%
14
Rental income. Rental income increased for the three months ended September 30, 2007, compared to the same period in 2006, primarily due to increases in rental income from our Other Markets segment, as described in the segment information footnote to our consolidated financial statements. Rental income for our Other Markets segment increased $7.1 million, or 7.4%, primarily because of the acquisition of 39 properties since June 2006. Rental income includes non-cash straight line rent adjustments totaling $6.2 million in 2007 and $7.8 million in 2006 and amortization of acquired real estate leases and obligations totaling ($2.3) million in 2007 and ($2.4) million in 2006. Rental income also includes lease termination fees totaling $569,000 in 2007 and $50,000 in 2006.
Total expenses. The increase in total expenses reflects increases in operating expenses and general and administrative expenses primarily related to our acquisition of properties since June 2006. The increase in depreciation and amortization expense reflects acquisitions made since June 2006 and building and tenant improvement costs incurred throughout our portfolio during the same period.
Gain on sale of properties. Net sales proceeds and gains from the sale of three land parcels in 2007 were $3.9 million and $2.4 million, respectively. Net sales proceeds and gains from the sale of four office properties in 2006 were $9.2 million and $1.2 million, respectively.
Net income and net income available for common shareholders.The decrease in net income available for common shareholders reflects the increase in depreciation and amortization primarily related to properties acquired since June 2006 and building and tenant improvement costs incurred throughout our portfolio during the same period. Net income available for common shareholders is net income reduced by preferred distributions. The increase in preferred distributions reflects the issuance of our series D preferred shares in October 2006, which are convertible into 29.2 million common shares. Proceeds from this issuance were used to reduce amounts outstanding on our revolving credit facility and general business purposes, including property acquisitions.
15
Nine Months Ended September 30, 2007, Compared to Nine Months Ended September 30, 2006
36,204
6.1%
15,954
7.0%
16,304
13.7%
1,724
6.9%
33,982
9.1%
2,222
(676
(31.9%
(310
(0.2%
948
57.1%
(117,239
(55.4%
Loss from discontinued operations
76
100.0%
(115,927
(54.5%
(16,228
(54.1%
6,914
(125,241
(71.2%
1,534
0.7%
30,727
14.6%
(0.60
(72.3%
(71.4%
16
Rental income. Rental income increased for the nine months ended September 30, 2007, compared to the same period in 2006, primarily due to increases in rental income from our Other Markets segment, as described in the segment information footnote to our consolidated financial statements. Rental income for our Other Markets segment increased $29.7 million, or 10.8%, primarily because of the acquisition of 86 properties since December 2005. Rental income includes non-cash straight line rent adjustments totaling $14.8 million in 2007 and $17.9 million in 2006 and amortization of acquired real estate leases and obligations totaling ($7.7) million in 2007 and ($7.9) million in 2006. Rental income also includes lease termination fees totaling $925,000 in 2007 and $550,000 in 2006.
Total expenses. The increase in total expenses reflects increases in operating expenses and general and administrative expenses primarily related to our acquisition of properties since December 2005. The increase in depreciation and amortization expense reflects acquisitions made since December 2005 and building and tenant improvement costs incurred throughout our portfolio during the same period.
Loss on early extinguishment of debt. The loss on early extinguishment of debt in 2007 relates to the write off of deferred financing fees associated with the repayment of $200 million of our floating rate senior notes in June 2007. The loss on early extinguishment of debt in 2006 relates to the write off of deferred financing fees associated with the repayment of our $350 million term loan in March 2006.
Equity in earnings of equity investments. The decrease in equity in earnings of equity investments in 2007 reflects our sale of all 7.7 million common shares we owned in Senior Housing Properties Trust, or Senior Housing, and all 4.0 million common shares we owned in Hospitality Properties Trust, or Hospitality Properties, in March 2006.
Gain on sale of equity investments. The gain on sale of equity investments reflects the sale in March 2006 of all of the common shares we owned in Senior Housing and Hospitality Properties for aggregate net proceeds of $308.3 million.
Income from continuing operations. The decrease in income from continuing operations is due primarily to the gain on the sale of the common shares we owned in Senior Housing and Hospitality Properties in 2006.
Net income and net income available for common shareholders.The decrease in net income and net income available for common shareholders is due primarily to the sale of Senior Housing and Hospitality Properties common shares in 2006. Net income available for common shareholders is net income reduced by preferred distributions and the excess of the redemption price paid over the carrying value of our 9.875% series A preferred shares that we redeemed in March 2006. The increase in preferred distributions reflects the issuance of our series D preferred shares in October 2006, which are convertible into 29.2 million common shares. Proceeds from this issuance were used to reduce amounts outstanding on our revolving credit facility and general business purposes, including property acquisitions.
17
LIQUIDITY AND CAPITAL RESOURCES
Our Operating Liquidity and Resources
Our principal sources of funds for current expenses and distributions to shareholders are rents from our properties. This flow of funds has been historically sufficient for us to pay our operating expenses, debt service and distributions. We believe that our operating cash flow will be sufficient to meet our operating expenses, debt service and distribution payments for the foreseeable future. Our future cash flows from operating activities will depend primarily upon the following factors:
• our ability to maintain or improve occupancies and effective rent rates at our properties;
• our ability to restrain operating cost increases at our properties; and
• our ability to purchase new properties which produce positive cash flows from operations.
As discussed above, we believe that present leasing market conditions in some areas where our properties are located may result in modest increases in effective rents. Recent rises in fuel prices may cause our future operating costs to increase; however, the impact of these increases is expected to be partially offset by pass through operating cost increases to our tenants pursuant to lease terms. We generally do not purchase turn around properties or properties which do not generate positive cash flows. Our future purchases of properties which generate positive cash flows can not be accurately projected because such purchases depend upon available opportunities which come to our attention.
Cash flows provided by (used for) operating, investing and financing activities were $198.1 million, ($305.4) million and $115.2 million, respectively, for the nine months ended September 30, 2007, and $185.5 million, ($48.2) million and ($123.3) million, respectively, for the nine months ended September 30, 2006. Changes in all three categories between 2007 and 2006 are primarily related to property acquisitions, repayments and issuances of debt obligations, issuance and redemption of preferred shares, and our sale of all our Senior Housing and Hospitality Properties common shares in 2006.
Our Investment and Financing Liquidity and Resources
In order to fund acquisitions and to accommodate cash needs that may result from timing differences between our receipt of rents and our desire or need to make distributions or pay operating or capital expenses, we maintain an unsecured revolving credit facility with a group of institutional lenders. At September 30, 2007, there was $38 million outstanding and $712 million available on our revolving credit facility, and we had cash and cash equivalents of $25.6 million. We expect to use cash balances, borrowings under our credit facility and net proceeds of offerings of equity or debt securities to fund future property acquisitions.
18
Our outstanding debt maturities and weighted average interest rates as of September 30, 2007, were as follows (dollars in thousands):
Scheduled Principal Payments During Period
Secured
Unsecured
Weighted
Fixed Rate
Floating
Fixed
Average
Debt
Rate Debt
Total (1)
Interest Rate
3,016
10,687
6.8%
7,951
8,381
50,000
96,381
7.5%
229,988
200,000
429,988
6.4%
31,201
231,201
7,941
207,941
6.5%
15,788
250,000
265,788
5.7%
4,029
450,000
454,029
6.0%
13,387
400,000
413,387
6.3%
65,066
500,000
565,066
6.6%
238,000
2,050,000
2,685,435
(1) Total debt as of September 30, 2007, net of unamortized premiums and discounts, equals $2,674,859.
When significant amounts are outstanding under our revolving credit facility or the maturity dates of our revolving credit facility and term debts approach, we explore alternatives for the repayment of amounts due. Such alternatives usually include incurring additional term debt and issuing new equity securities. We have an effective shelf registration statement that allows us to issue public securities on an expedited basis, but it does not assure that there will be buyers for such securities. Although there can be no assurance that we will consummate any debt or equity offerings or other financings, we believe we will have access to various types of financing, including debt or equity offerings, to finance future acquisitions and capital expenditures and to pay our debt and other obligations.
The completion and the costs of our future debt transactions will depend primarily upon market conditions and our credit ratings. We have no control over market conditions. Our credit ratings depend upon evaluations by credit rating agencies of our business practices and plans and, in particular, whether we appear to have the ability to maintain our earnings, to separate our debt maturities and to balance our use of debt and equity capital so that our financial performance and leverage ratios afford us flexibility to withstand any reasonably anticipatable adverse changes. We intend to conduct our business activities in a manner which will continue to afford us reasonable access to capital for investment and financing activities.
During the nine months ended September 30, 2007, we purchased 11 office properties, including one hotel which is adjacent to owned office properties that are scheduled for redevelopment, for $108.2 million, plus closing costs, 14 industrial properties for $125.5 million, plus closing costs, and funded improvements to our owned properties totaling $74.8 million. We funded all our 2007 acquisitions and improvements to our owned properties with cash on hand, by borrowing under our revolving credit facility and assuming $4.5 million of mortgage debt.
19
In October 2007, we purchased six properties for $73.8 million, excluding closing costs, using cash on hand and borrowings under our revolving credit facility. As of November 7, 2007, we have an executed purchase agreement for two additional properties with an aggregate of approximately 262,000 square feet of space for a total purchase price of $23.2 million, excluding closing costs. This potential purchase transaction is subject to completion of diligence and other customary conditions; because of these contingencies we can provide no assurances that we will purchase these properties.
During the three and nine months ended September 30, 2007 and 2006, cash expenditures made and capitalized for tenant improvements, leasing costs, building improvements and development and redevelopment activities were as follows (amounts in thousands):
Tenant improvements
9,651
13,032
38,295
42,841
Leasing costs
6,876
5,339
18,296
20,081
Building improvements (1)
3,048
5,573
7,729
13,446
Development and redevelopment activities (2)
5,568
8,156
28,753
19,659
(1) Building improvements generally include recurring expenditures that we believe are necessary to maintain the value of our properties.
(2) Development, redevelopment and other activities generally include non-recurring expenditures or expenditures that we believe increase the value of our existing properties.
Commitments made for expenditures in connection with leasing space during the three months ended September 30, 2007, are as follows (amounts in thousands, except as noted):
NewLeases
Renewals
Square feet leased during the period
248
1,235
1,483
Total commitments for tenant improvements and leasing costs
3,420
14,204
17,624
Leasing costs per square foot (whole dollars)
13.79
11.50
11.88
Average lease term (years)
8.3
Leasing costs per square foot per year (whole dollars)
2.76
1.39
1.54
20
In October 2007, we issued 12.8 million common shares in a public offering, raising net proceeds of approximately $123 million. We subsequently announced the partial redemption of 5 million of our 12 million outstanding 8 ¾% series B cumulative redeemable preferred shares at the stated liquidation preference price of $25.00 per share plus accrued and unpaid dividends. This redemption is expected to occur on or about November 26, 2007. Also in October 2007, we sold an additional 177,000 of our common shares for net proceeds of $1.7 million pursuant to a sales agreement with a securities broker dealer, which allows us to sell our common shares from time to time in a controlled equity offering program. Net proceeds were used to reduce amounts outstanding on our revolving credit facility and for general business purposes, including property acquisitions.
We have no commercial paper, swaps, hedges, joint ventures or off balance sheet arrangements as of September 30, 2007.
Debt Covenants
Our principal debt obligations at September 30, 2007 were our unsecured revolving credit facility and our $2.25 billion of publicly issued unsecured term debt. Our publicly issued debt is governed by an indenture. Our public debt indenture and related supplements and our revolving credit facility agreement contain a number of financial ratio covenants which generally restrict our ability to incur debts, including debts secured by mortgages on our properties in excess of calculated amounts, require us to maintain a minimum net worth, restrict our ability to make distributions under certain circumstances and require us to maintain other ratios. At September 30, 2007, we believe we were in compliance with all of our covenants under our indenture and related supplements and our revolving credit facility agreement.
In addition to our unsecured debt obligations, we have $397.4 million, excluding unamortized premiums and discounts, of mortgage notes outstanding at September 30, 2007.
None of our indenture and related supplements, our revolving credit facility or our mortgage notes contain provisions for acceleration or that require us to provide collateral security which could be triggered by our debt ratings. However, our senior debt rating is used to determine the interest rate and the fees payable under our revolving credit facility.
Our public debt indenture and related supplements contain cross default provisions to any other debts of $20 million or more. Similarly, a default on our public debt indenture would be a default under our revolving credit facility.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
We are exposed to risks associated with market changes in interest rates. Our strategy to manage exposure to changes in interest rates is unchanged since December 31, 2006. Other than as described below, we do not foresee any significant changes in our exposure to fluctuations in interest rates or in how we manage this exposure in the near future.
Our unsecured revolving credit facility and $200 million of our senior notes bear interest at floating rates and mature in August 2010 and March 2011, respectively. As of September 30, 2007, we had $38 million outstanding and $712 million available for drawing under our revolving credit facility. Repayments under our revolving credit facility may be made at any time without penalty. Repayments under our floating rate senior notes may be made on periodic interest payment dates. We borrow in U.S. dollars and borrowings under our revolving credit facility and our floating rate senior notes require interest at LIBOR plus premiums. Accordingly, we are vulnerable to changes in U.S. dollar based short term rates, specifically LIBOR. Our exposure to fluctuations in floating interest rates will increase or decrease in the future with increases or decreases in the outstanding amount of our floating rate debt.
21
Item 4. Controls and Procedures
As of the end of the period covered by this report, our management carried out an evaluation, under the supervision and with the participation of our managing trustees, President and Chief Operating Officer and Treasurer and Chief Financial Officer of the effectiveness of our disclosure controls and procedures pursuant to Exchange Act Rules 13a-15 and 15d-15. Based upon that evaluation, our managing trustees, President and Chief Operating Officer and Treasurer and Chief Financial Officer concluded that our disclosure controls and procedures are effective.
There have been no changes in our internal control over financial reporting during the quarter ended September 30, 2007, that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
22
WARNING CONCERNING FORWARD LOOKING STATEMENTS
THIS QUARTERLY REPORT ON FORM 10-Q CONTAINS STATEMENTS AND IMPLICATIONS WHICH CONSTITUTE FORWARD LOOKING STATEMENTS WITHIN THE MEANING OF THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995 AND OTHER FEDERAL SECURITIES LAWS. ALSO, WHENEVER WE USE WORDS SUCH AS “BELIEVE”, “EXPECT”, “ANTICIPATE”, “INTEND”, “PLAN”, “ESTIMATE” OR SIMILAR EXPRESSIONS, WE ARE MAKING FORWARD LOOKING STATEMENTS. THESE FORWARD LOOKING STATEMENTS ARE BASED UPON OUR PRESENT INTENT, BELIEFS OR EXPECTATIONS, BUT FORWARD LOOKING STATEMENTS ARE NOT GUARANTEED TO OCCUR AND MAY NOT OCCUR. ACTUAL RESULTS MAY DIFFER MATERIALLY FROM THOSE CONTAINED IN OR IMPLIED BY OUR FORWARD LOOKING STATEMENTS AS A RESULT OF VARIOUS FACTORS.
IMPORTANT FACTORS THAT COULD CAUSE ACTUAL RESULTS TO DIFFER MATERIALLY FROM THOSE IN OUR FORWARD LOOKING STATEMENTS INCLUDE, WITHOUT LIMITATION:
• CHANGES IN THE ECONOMY AND THE CAPITAL MARKETS,
• COMPETITION WITHIN THE REAL ESTATE INDUSTRY OR THOSE INDUSTRIES IN WHICH OUR TENANTS OPERATE, AND
• CHANGES IN FEDERAL, STATE AND LOCAL LEGISLATION.
FOR EXAMPLE:
• WE MAY BE UNABLE TO MAINTAIN OUR CURRENT RATE OF DISTRIBUTIONS AND FUTURE DISTRIBUTIONS MAY BE SUSPENDED OR PAID AT A LESSER RATE THAN THE DISTRIBUTIONS WE NOW PAY,
• SOME OF OUR TENANTS MAY NOT RENEW EXPIRING LEASES, AND WE MAY BE UNABLE TO LOCATE NEW TENANTS TO MAINTAIN THE HISTORICAL OCCUPANCY RATES OF OUR PROPERTIES,
• RENTS THAT WE CAN CHARGE AT OUR PROPERTIES MAY DECLINE,
• OUR TENANTS MAY EXPERIENCE LOSSES AND BECOME UNABLE TO PAY OUR RENTS,
• CONTINGENCIES IN OUR COMMITTED ACQUISITIONS MAY CAUSE THESE TRANSACTIONS NOT TO OCCUR OR TO BE DELAYED,
• WE MAY BE UNABLE TO IDENTIFY PROPERTIES WHICH WE WANT TO BUY OR TO NEGOTIATE ACCEPTABLE PURCHASE PRICES, AND
OTHER RISKS MAY ADVERSELY IMPACT US, AS DESCRIBED MORE FULLY IN OUR ANNUAL REPORT ON FORM 10-K FOR THE YEAR ENDED DECEMBER 31, 2006, UNDER “ITEM 1A. RISK FACTORS”.
YOU SHOULD NOT PLACE UNDUE RELIANCE UPON ANY FORWARD LOOKING STATEMENTS.
EXCEPT AS REQUIRED BY LAW, WE UNDERTAKE NO OBLIGATION TO UPDATE OR REVISE ANY FORWARD LOOKING STATEMENTS AS A RESULT OF NEW INFORMATION, FUTURE EVENTS OR OTHERWISE.
23
STATEMENT CONCERNING LIMITED LIABILITY
THE AMENDED AND RESTATED DECLARATION OF TRUST ESTABLISHING HRPT PROPERTIES TRUST, DATED JULY 1, 1994, A COPY OF WHICH, TOGETHER WITH ALL AMENDMENTS AND SUPPLEMENTS THERETO, AS DULY FILED IN THE OFFICE OF THE STATE DEPARTMENT OF ASSESSMENTS AND TAXATION OF MARYLAND, PROVIDES THAT THE NAME “HRPT PROPERTIES TRUST” REFERS TO THE TRUSTEES UNDER THE DECLARATION OF TRUST, AS SO AMENDED AND SUPPLEMENTED, COLLECTIVELY AS TRUSTEES, BUT NOT INDIVIDUALLY OR PERSONALLY, AND THAT NO TRUSTEE, OFFICER, SHAREHOLDER, EMPLOYEE OR AGENT OF HRPT PROPERTIES TRUST SHALL BE HELD TO ANY PERSONAL LIABILITY, JOINTLY OR SEVERALLY, FOR ANY OBLIGATION OF, OR CLAIM AGAINST, HRPT PROPERTIES TRUST. ALL PERSONS DEALING WITH HRPT PROPERTIES TRUST IN ANY WAY SHALL LOOK ONLY TO THE ASSETS OF HRPT PROPERTIES TRUST FOR THE PAYMENT OF ANY SUM OR THE PERFORMANCE OF ANY OBLIGATION.
Part II. Other Information
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
On September 18, 2007, we granted an aggregate 52,800 common shares pursuant to our Incentive Share Award Plan to our officers and certain employees of our manager, Reit Management & Research LLC, valued at $9.90 per common share, the closing price of our common shares on the NYSE on September 18, 2007. The grants were made pursuant to the exemption from registration contained in Section 4(2) of the Securities Act of 1933, as amended.
Item 6. Exhibits
3.1
Composite Copy of Third Amendment and Restatement of Declaration of Trust of the Company, dated July 1, 1994, as amended to date. (filed herewith)
3.2
Articles Supplementary to Declaration of Trust dated October 16, 2007.(Incorporated by reference to the Company’s Current Report on Form 8-K dated October 16, 2007)
4.1
Supplemental Indenture No. 18 related to the 6.65% Senior Notes due 2018, dated as of September 18, 2007, between HRPT Properties Trust and U.S. Bank National Association, as Trustee, including the form of 6.65% Senior Note due 2018. (filed herewith)
12.1
Computation of Ratio of Earnings to Fixed Charges. (filed herewith)
12.2
Computation of Ratio of Earnings to Combined Fixed Charges and Preferred Distributions. (filed herewith)
31.1
Rule 13a-14(a) Certification. (filed herewith)
31.2
31.3
32.1
Section 1350 Certification. (furnished herewith)
24
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
By:
/s/ John A. Mannix
John A. Mannix
President and Chief Operating Officer
Dated: November 7, 2007
/s/ John C. Popeo
John C. Popeo
Treasurer and Chief Financial Officer
(principal financial and accounting officer)
25